Human Emotions - Sunk Costs

In business, sunk costs are costs that already have been incurred and cannot be recovered. For example, an investment that already has been spent on research for a new technology is a sunk cost. The sunk cost effect is the tendency for people to consider the amount of money that already has been spent—the sunk costs—when making decisions. Say the ACME Company has spent $100 million developing a particular technology for building laptop displays. Now suppose that after spending this money it becomes obvious that an alternative technology is much better and more likely to produce the desired results in the required time frame. A purely rational approach would be to weigh the future costs of adopting the new technology against the future expense of continuing to use the developed technology and then make a decision solely on the basis of future benefits and expenditures, completely disregarding the amount of money that already has been spent.

However, the sunk cost effect causes those who make this decision to consider the amount of money previously spent and view it as a waste of $100 million if a different technology is used. They may choose to continue with he original decision even if it means spending two or three times as much in the future to build the laptop displays. The sunk cost effect leads to bad decision.